Download Risk loads: What are we debating about?

Risk loads: What are we
debating about?
CAS 2004 Ratemaking Seminar
Philadelphia, Pa.
Louise Francis, FCAS, MAAA
[email protected]
Francis Analytics and Actuarial
Data Mining, Inc.
Key Points
• There is no universal theory of risk loads
• Need to be open to various approaches, among them
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CAPM
IRR
Option Pricing Theory
Based on statistics of aggregate probability distribution
• Probability of ruin
• Expected policyholder deficit
• Tail value at risk
– Transformed distributions
– Direct applications of utility theory
– Other
Francis Analytics and Actuarial
Data Mining, Inc.
Key Points
• Allocation of capital
– Capital available to entire firm, not just a segment of it
– Typically, the pieces do not add up
– Nonetheless it is accepted practice to measure
company and segment results by return on equity
measures and use for allocated capital ratemaking
• There is a floor on value of a liability
– PV of losses and expenses discounted at risk free
rate matching duration of liabilities
– Risk loaded discounted liability should be greater than
this minimum
Francis Analytics and Actuarial
Data Mining, Inc.
Visions of the Future
• Contributions from new areas of research
will impact the way we view risk and risk
loads
– Extreme value theory:
• Question dominance of normal/lognormal
• Risk is not just about the second moment
– Behavioral finance: Question market
efficiency assumption
– Enterprise risk management: Consider
aspects of risk which currently are ignored
Francis Analytics and Actuarial
Data Mining, Inc.